Futures contract on options contracts exchange device

ABSTRACT

Futures contracts on options contracts are provided in which the duty to purchase the right to purchase a commodity or security may be agreed upon by two or more parties. The futures contract segment of the exchange device is the duty to purchase the underlying options contract at a specific time. The options contract segment of the exchange device is the right to buy an underlying security or commodity. Margin schemes may be included in either segment of the exchange device or the exchange device as a whole.

CROSS REFERENCE TO RELATED APPLICATION

This application claims priority from U.S. Provisional Application No.60/344,258 filed on Dec. 27, 2001.

BACKGROUND OF THE INVENTION

Certain options contracts tend to be restricted at least in part becauseof the requirements for options contracts obtained as a means ofemployment compensation. For example, during the “dot-coin boom” whenstart-up initial public offerings (IPO's) were widespread, optionscontracts were often used as a primary source of compensation. Suchcompensatory options contracts were given to employees by his or heremploying company. The options contracts gave the employee the right topurchase up to a specific number of the employing company's stock at acertain price or strike price. Companies using options as a compensationdevice were able to decrease cash out-flow while increasing anemployee's desire to see the company succeed. If the company succeeded,the compensatory options contracts would increase in value and theemployee would incur relative profits when he or she exercised theoption contracts.

However, the exercising of compensatory options contracts usuallyincluded limitations not found in basic options contracts. Theselimitations were included in order to meet specific goals of theemploying company. Such goals included stock price stabilization andcapital preservation. One common limitation was a time limitation thatprohibited employees from exercising an options contract until a certainamount of time had passed. On the other hand, advantages over basicoptions contracts were present in compensatory options contracts. Onecommon example was the elimination of an expiration date or the increasein time that the compensatory option contract could be exercised.

Future contracts are well known in the art and are recognized as theduty for one party to purchase or sell an underlying commodity toanother party at a specific date or delivery date. Options contracts arealso well known in the art and are recognized as the right of a party topurchase or sell an underlying security at a specific date for aspecific price.

It would be desirable to improve market liquidity and introduce a novelsecurities exchange mechanism that would allow for alternativeinvestment hedging techniques and speculation by providing systems andmethods for providing futures contracts on options contracts.

SUMMARY OF THE INVENTION

The present invention relates to systems and methods for providing anovel securities exchange mechanism that would allow for alternativeinvestment hedging techniques and speculation. This invention alsorelates to improving the liquidity and distribution network for optionscontracts. Particularly, it is an object of this invention to providefutures contracts on options contracts, in which the duty to purchasethe right to purchase a commodity or security may be agreed upon by twoor more parties.

The futures contract segment of the exchange device is the duty topurchase the underlying options contract. Generally, a specific deliverydate or delivery interval will be included in the futures contract andthis is the date at which the exchange will occur.

Pricing of the futures contract may depend on a variety of variablesincluding the current price of the options contract and the amount oftime until the delivery date is reached. Other pricing mechanisms may beused such as a Black-Scholes derivative or a pricing scheme based onspeculating future value. However, in exchanges where free markets areformed, the price of the futures contract will reflect supply and demandin which buyers and sellers determine the exchange price.

The options contract segment of the exchange device is the right to buyan underlying security or commodity. Generally, this will include aspecific price and a particular interval in which the option may beexercised. Additional limitations may be imposed in either segment ofthe exchange device or the exchange device as a whole.

Margin schemes may be included in either segment of the exchange deviceor the exchange device as a whole. One margin scheme may be based on analgorithm utilizing the attributes of both a futures contract and anoptions contract. Other margin schemes may, for example, be the basis ofa percentage of a particular price or incorporate initial andmaintenance margin thresholds.

One area where futures on options contracts may find acceptance is withcompensatory option contracts. Particularly, futures on optionscontracts may provide an employee with the opportunity to realize a saleprice on compensatory options before that employee is able to exercisethe option due to time restrictions imposed by the employer. Thisinvention would have been very useful during the “dot-com crash”, inwhich stock prices of start-ups went into a free-fall. If futurecontracts on options contracts were available during the “dot-comcrash”, employees may have been able to preserve profits the economicresult of the phenomena may have been substantially different.

Using the “dot-com crash” scenario as an example to illustrate theinvention, a party obtaining a futures contract on an options contractmay find many benefits not found in other devices.

Moreover if a party was allowed to sell a futures contract oncompensatory options, he may have received some value from these optionbefore these options became valueless. Furthermore, other parties may begiven an opportunity to participate in compensatory options programswithout having to actually be employed by the company that is providingthe options. Preferably this is permitted by the company issuing theoptions.

The futures on options exchange device may offer new and unique methodsfor hedging and investment speculation. Additionally, futures on optionscontracts may provide an alternative to long-term option contracts or“leaps”.

Furthermore, some compensatory option contracts sometimes containadvantages not contained in normal options contracts. Particularly,compensatory options contracts sometimes do not have an expiration dateand, therefore, can be exercised at any time. In exchange for thisadvantage, the employee is required to wait a period of time before hecan exercise the options so that the employing company is strengthenedand capital is preserved. For this reason, a futures on options contractunderwritten by an employee for his or her options may not have anexpiration date on those options. As a result of these advantages, newspeculative attributes may be present in the present invention which maybe attractive as an investment mechanism.

It is therefore an object of the present invention to provide systemsand methods for providing a futures contract on options contractexchange device. Generally, this exchange device is an agreement for theduty to purchase the right to purchase a particular security orcommodity.

BRIEF DESCRIPTIONS OF THE INVENTION

Further features of the invention, its nature and various advantageswill be apparent from the following detailed description of thepreferred embodiments, taken in conjunction with the accompanyingdrawings, in which like reference characters refer to like partsthroughout, and in which:

FIG. 1 is an illustration of an electronic implementation of a system tosell a futures contract on an options contract in accordance with someembodiments of the present invention.

FIG. 2 is an illustration, in greater detail, of an electronicimplementation of a system to sell a futures contract on an optionscontract in accordance with some embodiments of the present invention.

FIG. 3 is a flow chart that is illustrative of a method to provide andtrade a futures contract on an options contract in accordance with theprinciples of the present invention.

FIG. 4 is a flow chart that is illustrative of a method to provide anddeliver a futures contract on an options contract in accordance with theprinciples of the present invention.

FIG. 5 is an illustration of a chart of data for futures contracts onoptions contracts in accordance with some embodiments of the presentinvention.

DETAILED DESCRIPTION OF THE INVENTION

This invention relates to creating systems and methods for providingfutures contracts for (or on) options contracts. The followingembodiments of the invention relates to restricted options contractssuch as compensatory options contracts. Nevertheless, these examples donot limit the invention to this particular subject matter. Rather, theexamples are provided for illustration of the invention and not to limitit to a particular commodity, market, or type of option.

Referring to FIG. 1, exemplary system 100 for implementing the presentinvention is shown. As illustrated, system 100 may include one or moreworkstations 101. Workstations 101 may be local or remote, and areconnected by one or more communications links 102 to computer network103 that is linked via communications links 105 to server 104. Server104 is linked via communications link 110 to back office clearing center112.

In system 100, server 104 may be any suitable server, processor,computer, or data processing device, or combination of the same. Server104 may be used to process and settle executed trades of futurescontracts on options contracts.

Computer network 103 may be any suitable computer network including theInternet, an intranet, a wide-area network (WAN), a local-area network(LAN), a wireless network, a digital subscriber line (DSL) network, aframe relay network, an asynchronous transfer mode (ATM) network, avirtual private network (VPN), or any combination of any of the same.Communications links 102 and 105 may be any communications linkssuitable for communicating data between workstations 101 and server 104,such as network links, dial-up links, wireless links, hard-wired links,etc.

Workstations 101 may be personal computers, laptop computers, mainframecomputers, dumb terminals, data displays, Internet browsers, PersonalDigital Assistants (PDAs), two-way pagers, wireless terminals, portabletelephones, etc., or any combination of the same. Workstations 101 maybe used to enter into and proceed with the trades that relate to thepresent invention, and display trade, benchmark, or spread informationto users of system 100.

Back office clearing center 112 may be any suitable equipment, such as acomputer, a laptop computer, a mainframe computer, etc., or anycombination of the same, for causing trades to be cleared and/orverifying that trades are cleared. Communications link 110 may be anycommunications links suitable for communicating data between server 104and back office clearing center 112, such as network links, dial-uplinks, wireless links, hard-wired links, etc.

The server, the back office clearing center, and one of theworkstations, which are depicted in FIG. 1, are illustrated in moredetail in FIG. 2. Referring to FIG. 2, workstation 101 may includeprocessor 201, display 202, input device 203, and memory 204, which maybe interconnected. In a preferred embodiment, memory 204 contains astorage device for storing a workstation program for controllingprocessor 201. Processor 201 may use the workstation program to presenton display 202 trade information relating to bids, offers, executedtrades, and options information to a user of workstation 101.Furthermore, input device 203 may be used by the user to enter such bidsand offers, modify them, and to enter into trades involving the futurescontracts on options contracts.

Server 104 may include processor 211, display 212, input device 213, andmemory 214, which may be interconnected. In a preferred embodiment,memory 214 contains a storage device for storing trade informationrelating to the trades. The storage device further contains a serverprogram for controlling processor 211. Processor 211 uses the serverprogram to transact the purchase and sale of the futures contracts onoptions contracts.

The server program operative on processor 211 may be made up of aplurality of individual software modules. These modules may all bepresent on the one server as in this example or spread amongst multiplesystems. These modules are programmed in such a way as to workcollectively to implement the full functionality of server 104. Some ofthe software modules implement the basic functionality of server104—i.e., the operating system modules. Other modules may implement thesystems and methods of the present inventions—i.e. an options analysismodule, a futures contract creation module, and a futures contracttrading modules. Still other software modules may implement theconfiguration of server 104. Persons skilled in the art will recognizethat the use of software modules to describe different parts of theserver program is one way of breaking down the program design for easierdescription and implementation. The systems and methods of the presentinvention may be implemented without using the modules as described,they are merely representative of one potential embodiment of the serverprogram.

Processor 211 may include futures on options calculation processor 215that may be implemented to determine the benchmark values based onmarket conditions or other criteria that may relate to the items.Processor 211 may include trade processor 216 that executes andprocesses trades.

Back office clearing center 112 may include processor 221, display 222,input device 223, and memory 224, which may be interconnected. In apreferred embodiment, memory 224 contains a storage device for storing aclearing program for controlling processor 221. Processor 221 uses theclearing program to clear executed trades. Clearing executed trades maypreferably include exchanging currency for a future commitment topurchase or sell an option.

FIG. 3 is an illustrative flow chart 310, in which one embodiment of amethod for providing and delivering a futures contract on an optionscontract is depicted. Included in flow chart 310 are three functionsthat are depicted as steps 311, 312, and 313.

The first step in flow chart 310 is step 311, in which a restrictedoptions contract is provided. One example of a restricted optionscontract is a compensatory options contract supplied by an employer toan employee. The underlying security for such a restricted optionscontract may be the common stock for the employing company. Other typesof underlying securities for a compensatory option may include, forexample, preferred stock, convertible bonds, and corporate bonds.

Generally, the provided options contract is the right to purchase orsell the underlying security at a specific price. For example, supposethe price of a common stock of Company A is $10.00. If Company A givesan employee 100 common stock options at a strike price of $10.00 as acompensatory device then Company A has given the employees the right tobuy 100 of Company A's common stock at a price of $10.00. When anemployee decides to purchase a common stock through a stock option, thatemployee is said to have exercised his option or right to buy theunderlying security.

Typically, restrictions are imposed on a compensatory stock option. Onesuch restriction is a waiting period, during which the stock options maynot be exercised. For example, Company A may require that its employeesdo not exercise stock options given to them by Company A for at least ayear. If at the end of this year Company A's common stock price is at$25.00 and the employee exercises all 100 of the stock options than thatemployee buys the stock at $10.00. In such a situation, the employeewill have made an unrealized profit of $15.00 per share.

An options contract may be used as a device to exchange a specificnumber of stock options. For example, a single options contract may beused to exchange 100 stock options. Persons skilled in the art, however,will appreciate that an options contract may be used to also exchange asingle stock option.

The next step in FIG. 3 is step 312, in which a futures contract basedon the provided options contract is created. As stated before, a futurescontract is the duty to purchase or sell an underlying security orcommodity at a certain date. In a preferred embodiment of the invention,the trading price of the underlying security may be determined when thefutures contract is created. Persons skilled in the art will appreciate,however, that other pricing mechanisms such as speculative pricingmechanisms may be agreed upon by the party or parties creating thefuture contract.

In accordance with the present invention, a futures contract on anoptions contract is the duty on behalf of the purchaser of the futurescontract to purchase an option contract of 100 stock options or othersuitable amount from the seller of the futures contract. In accordancewith the above examples, suppose the stock price of Company A increasesto $25.00 within the first 6 months that the employee has the optionscontract. Accordingly, the employee may use his 100 stock options as anunderlying security to a futures contract. The time of delivery of sucha futures contract may be, for example, the time at which the employeegains control of his or her stock options. The price of the futurescontract may be $16000 or $16.00 per underlying share where $15000(e.g., $15.00 per share) is the unrealized profit of the optionscontract if the current stock price is $25.00 a share. The additional$1000 (e.g. $1.00 per share) may include underwriting the futurescontract, and the price of speculation incorporated into the optionscontract (since options contracts have their own expiration date). As aresult, a futures on options contract may allow an employee who owns arestricted options contract to realize profits (e.g., lock in a price)before the waiting period has been exhausted. Moreover, other partiesmay be given an opportunity to participate in compensatory optionsprograms without having to actually be employed by the company that wasproviding the options. Preferably this is permitted by the companyissuing the options.

The last step in flow chart 310 is step 313, in which the restrictedoptions contract is delivered on the delivery date specified in thefutures contract. If the price of Company A common stock decreasessignificantly, the employee will have realized gains reflective of thefutures contract price and will deliver the 100 stock options to thepurchaser of the futures contract. The purchaser may choose to exercisethe option at the expiration of the futures contract. Persons skilled inthe art will appreciate that the purchaser of the futures contract stillobtains the underlying stock options even if the value of these stockoptions decrease. As a result, the purchaser still has the right to buya specific number of stock at a specific price. Often, compensatorystock options will have either a long-term or no expiration (e.g.,exercise) date. Therefore, a long-term speculative value in the optionscontract may still be present even though the short-term speculativevalue in the futures contract may have been lost.

FIG. 4 is an illustrative flow chart 410, in which a method forproviding and trading a futures contract on an options contract isdepicted. Included in flow chart 410 are three functions that aredepicted as steps 411, 412, and 413. Persons skilled in the art willappreciate that steps 411 and 412 are the same as respective steps 311and 312 from FIG. 3.

Step 413 of FIG. 4 may be realized after the restricted options contracthas been provided and the futures contract based on this restrictedoptions contract has been established. Particularly, step 413 allows forthe trading of a futures contract on an options contract before thedelivery date of the futures contract. Persons skilled in the art willappreciate that the trading of a futures on options contract may beembodied through a variety of exchanges, systems, or the equivalent.

FIG. 5 shows an example of a futures screen for the trading optionscontracts. After selecting a particular options contract or group ofoptions contracts, this screen displays relevant market information. Theinformation on the screen may typically include the symbol of thepertinent options contract 510, the opening price for the optionscontract 520, the highest and lowest value the options contract tradedat within a specified period 530, the price of the last options contracttraded 540, the settlement price 550—i.e., the current price of theoptions contract, the last change in price 560, and the open interest570—i.e., the total number of options contracts traded that have not yetbeen liquidated.

One embodiment of the invention may also include a method and system fordealing with margin requirements in futures contracts on optionscontracts. Margin requirements, and credit checks seek to ensure partiesto futures transactions that respective counterparties will meet thedelivery obligations of the futures contract. With respect tocompensatory options, some mechanism should preferably be used to ensurethat the employee, or some other suitable party, provides thecompensatory option at a future date.

For example, when an employee leaves before the term required for thecompensatory options to vest, he will not be able to satisfy the futurescontract because his compensatory options are nullified by his failureto stay at the company for the required term. In one embodiment, thecompensatory options may revert to the company and be used by thecompany to deliver the options to the purchaser of the futures contract.In order to induce the company to perform such a service, any fundsreceived from the sale of the futures contract on the compensatoryoptions should preferably be held in escrow by the company until theemployee satisfies the conditions for vesting of the compensatoryoptions.

One difficulty that may arise with respect to such a method or system isthe required conversion of the compensatory options to options that maybe dispensed to non-employees by the company. This difficulty ispreferably dealt with according to the invention during the issuance ofthe options by the company issuing the options as follows. In onesuitable embodiment, the company may write the compensatory options in asuitable way. One such suitable way may be to write the compensatoryoption such that it is convertible to an option of the company or byissuing new options to satisfy the purchaser of the futures contract atthe delivery date of the contract.

In any case, where the company is left to deliver on the outstandingfutures contracts, the company should preferably have retained, as aresult of the original deed on the futures contract, the proceeds of thesale. Thus, any employee who undertook to sell his options may berequired to have the proceeds of the sale retained in an escrow account,preferably with the company, until he delivers on the futures contract.Such a method preferably encourages the employee to stay with thecompany because of the outstanding tangible benefit which he stands togain by remaining with the company. In one preferable embodiment of thisinvention, a software module to process the data on the trade of thefutures contracts may also be used to account for the responsible partyfor the delivery of the options contract, as well as to account for theappropriate recipient of the proceeds from the sale of the futurescontract.

Accordingly, systems and methods for providing futures contracts onoptions contracts are provided. It will be understood that the foregoingis merely illustrative of the principles of the invention and thevarious modifications can be made by those skilled in the art withoutdeparting from the scope and spirit of the invention, which is limitedonly by the claims that follow.

1. A method of trading a futures contract, comprising the steps of: at acomputer of an electronic trading system designed to trade futures oncompensatory options, receiving from a first party an order to trade afutures contract on a compensatory option contract, the compensatoryoption contract providing a fight to purchase or sell a financialinstrument of an issuer that issued the compensatory option to theinitial issuee of the compensatory option as compensation for employmentby or services to the issuer, the compensatory option providing a rightto purchase or sell the instrument at a specified option price, thefutures contract creating a duty on the purchaser to purchase or sellthe compensatory option contract at a delivery date; receiving at acomputer of the electronic trading system a counter order for the onefutures contract from a counter party; and as a result of matching ofthe order and counter order, issuing transfer instructions to transferthe futures contract on the compensatory option contract between thefirst party and the counter party.
 2. The method of claim 1, furthercomprising the step of: in the electronic trading system, maintainingand executing data instructing delivery of the compensatory optioncontract on the delivery date.
 3. The method of claim 1, wherein thecompensatory option contract is a restricted employee option contract.4. The method of claim 3: wherein the restricted employee optioncontract comprises at least one vesting condition; the method furthercomprising holding, in an escrow account, at least a portion of proceedsfrom the transfer of the futures contract until the at least onecondition for vesting is satisfied.
 5. The method of claim 1, whereinthe compensatory option contract is a convertible employee option. 6.The method of claim 1: wherein the compensatory option contract is anemployee option; the method further comprising issuing at the deliverydate a new compensatory option to satisfy a purchaser of the futurescontract.
 7. The method of claim 1, wherein: the futures contract istransferred subject to one margin scheme based on both the future andthe compensatory option contract.
 8. The method of claim 1, wherein: thecompensatory option contract is transferred subject to a first marginscheme for the compensatory option contract; and the futures contract istransferred subject to a second margin scheme for the futures contract.9. The method of claim 1, wherein: the futures contract order covers afutures on compensatory options contracts with a plurality of vestingdates.
 10. The method of claim 1, wherein: the financial instrument isstock of the issuer.
 11. The method of claim 1, wherein: the financialinstrument is a bond of the issuer.
 12. The method of claim 1, wherein:the financial instrument is a convertible bond of the issuer.
 13. Asystem for trading a futures contract, comprising: a processor; and amemory, the memory having stored therein at least one software modulethat when executed is operable to cause the processor to: receive from afirst party an order to trade a futures contract on a compensatoryoption contract, the compensatory option contract providing a fight topurchase or sell a financial instrument of an issuer that issued thecompensatory option to the initial issuee of the compensatory option ascompensation for employment by or services to the issuer, thecompensatory option providing a fight to purchase or sell the instrumentat a specified option price, and the futures contract creating a duty onthe purchaser to purchase or sell the compensatory option contract at adelivery date; receive a counter order for the futures contract from acounter party; and as a result of matching of the order and counterorder, issue instructions to transfer the futures contract on thecompensatory option contract between the first party and the counterparty.
 14. The system of claim 13, the method further comprising thestep of: in the electronic trading system, maintaining and executingdata instructing delivery of the compensatory option contract on thedelivery date.
 15. The system of claim 13, wherein: the compensatoryoption contract is a restricted employee option contract.
 16. The systemof claim 15: wherein the restricted employee compensatory optioncontract comprises at least one vesting condition; the method furthercomprising holding, in an escrow account, at least a portion of proceedsfrom the transfer of the futures contract until the at least onecondition for vesting is satisfied.
 17. The system of claim 13, wherein:the compensatory option contract is a convertible employee compensatoryoption.
 18. The system of claim 13: wherein the compensatory optioncontract is an employee compensatory option; the method furthercomprising issuing at the delivery date a new compensatory option tosatisfy a purchaser of the futures contract.
 19. The system of claim 13,wherein: the futures contract is transferred subject to one marginscheme based on both the future and the compensatory option contract.20. The system of claim 13, wherein: the compensatory option contract istransferred subject to a first margin scheme for the compensatory optioncontract; and the futures contract is transferred subject to a secondmargin scheme for the futures contract.